HAL Id: hal-01863448
https://hal.archives-ouvertes.fr/hal-01863448
Preprint submitted on 28 Aug 2018
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Commercial Lending
Sofiane Aboura, Emmanuel Lépinette
To cite this version:
Sofiane Aboura, Emmanuel Lépinette. Evaluation of the Fair Credit Risk Premium in Commercial
Lending. 2018. �hal-01863448�
Evaluation of the Fair Credit Risk Premium in Commercial Lending
Sofiane Aboura, 1 Emmanuel L´ epinette 2,3
1
Universit´ e de Paris XIII, Sorbonne Paris Cit´ e, 93430 Villetaneuse, France.
Email: sofiane.aboura@univ-paris13.fr
2
Ceremade, PSL National Research, UMR CNRS 7534, Place du Mar´ echal De Lattre De Tassigny, 75775 Paris cedex 16, France.
Email: emmanuel.lepinette@ceremade.dauphine.fr
3
Gosaef, Facult´ e des Sciences de Tunis, 2092 Manar II-Tunis, Tunisia.
Abstract: We consider the problem of characterizing and computing the fair credit risk premium that a firm should pay when borrowing money from a bank. Using a risk-neutral approach, we show that there is a unique credit risk premium for a commercial loan depending on the firm’s strategy such that the expected discounted value of the bank’s payoff coincides with the loan’s par value. We then propose a numerical procedure to estimate the premium.
Keywords and phrases: Corporate Loans, Credit Risk, Investment Decisions, Portfolio Choice, Contingent Pricing
2000 MSC: 60G44, G11-G13, G32-G33.
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1. Introduction
This paper discusses the pricing of corporate loans in the case where the risk premium is explicitly related to the firm’s investment strategy.
A corporate loan is seen as a bilateral financial agreement issued, in the form of periodic payments, by a bank for its corporate non-financial firms.
The main difference between loans and bonds is that banks are senior to bondholders in bankruptcy (Schwert, 2018). Loans are typically unsecured, which places the bank on equal level with unsecured bondholders, although it is unusual for a firm to default on an unsecured loan 1 . Of course, a firm can also borrow money by issuing unsecured corporate bonds in the loan market. To that end, Santos (2011) finds that after the sub-prime crisis, banks increased the interest rates on their loans to bank-dependent borrow- ers by more than they did on their loans to borrowers that have access to the bond market. This result is also confirmed by Schwert (2018) who shows that firms are willing to pay a higher cost to borrow from a bank due to the bank specialness. In clear, it seems there exists a preference for banks despite a relatively higher cost. The overall cost for a loan can be seen as the basis point spread over the money market rate (the main reference rate for corporate loans is Libor) plus the annual fees over the life of the loan.
The pricing of loan contracts has attracted considerable research interest 2 . The pricing structure can depend on the type of loans (Credit Lines versus Term Loans) as explained by Berg et al. (2017) 3 as some loan contracts are set with repayment on maturity (zero-coupon plan), while others are designed
1
Schwert (2018) gives the example of the average recovery rate for loans that is 80%
whereas it is 40% for bonds, which implies that loan credit spreads should be smaller than bond credit spreads. From these aggregated statistics, he argues that the Duffie and Singleton (1999) model predicts that bond spreads should be approximately three times as large as loan spreads. More precisely, when the firm is close to default, bond spreads are significantly higher than loan spreads, but when it is far from default, the loan and bond spreads are similar.
2
See Papin (2013)’s doctoral dissertation for an interesting discussion on that topic.
3